When the potential investor comes around, the question arises as to how to place a value on that form of equity.

First, though, what has to be realized is that technically, the founders are not entitled to anything. Strictly speaking, the investment is a purchase of shares from the company, usually done by issuance of new shares, for a stated price. The founders are not the sellers, they are merely authorizing the corporation to create and distribute new shares according to the terms of whatever deal it is they made.

However, the founders may have to be convinced of the value of gaining the investment, and the company may owe some debt to the original founders (depending on how they structured the startup investment). As well, the investors may want to show some goodwill toward the founders by alleviating some of their contribution in the form of a payback.

As a buyer, though, the amount to be paid to the owners will be somewhat a function of the amount of real value that the initial brought into the company. If it’s merely time, that can be priced at a known rate (discounted by the amount of ownership the founders are retaining). Often, though, there’s also some form of IP (intellectual property) which, not relating to whether or not it is protected by the company, was provided by the founders.

At the end of the day, though, the amount to be paid to the founders is more a function of goodwill than of concrete value. The numbers may fluctuate wildly, and may have limited relationship to the value of the company as it stands in the accounting records. It is more of a bribe to the founders to convince them to part with a piece of their company than a part of the purchase.

Related posts:

1. Founders Agreements
2. Balance of Founders
3. IPO – Initial Public Offering

Before I go any further, I must point out that I am not a lawyer, and can only comment based on my experiences and information collected over the last few years. This is not to be construed as legal advice.

When you start working on a new idea, there are two reasons you want to protect your idea:

1. Maybe someone has thought of this idea before, and you might be infringing on their rights.
2. Maybe you’re the first to think of this idea, and therefore you want to protect your own rights.

In regard to the first concern, a few hours searching online can usually turn up any potential competitors. This research therefore serves multiple purposes – besides for telling you whether or not someone will sue you if you try implementing you idea, it also tells you something about your competition and the market.

In regard to the second concern, there are again two reasons to patent your idea:

1. You want to make sure that if your idea is unique, no one can copy you.
2. You want to make sure that your employees don’t go off and create an identical product on their own.
3. If you seek investments, potential investors want to hear that you’ve protected your rights.

In the software industry, however, a patent and copyright provide very limited real protection. While it would protect you from someone creating an exact duplicate of your product, it would not protect you from someone creating a similar product. Likewise, since much of the new software is about re-0rganizing existing technology, there is little that is left to protect, since the existing technologies do not belong to you.

The second item in the list, however, is actually fairly easy to deal with. An IP Waiver is a document which you can have your employees sign, which basically restricts them from using the idea for their own benefit. It can also be attached to a Non-Disclosure Agreement, also known as an NDA. Such a document prevents anyone from sharing information acquired from you that is not available elsewhere.

None of these documents is fool-proof, but they are necessary. You can get the pair of documents (the IP Waiver and NDA) drafted up for your company for under $500. If you get big enough, however, to be capable of suing someone for violating one of those documents, you are not likely to have the time to actually sue them. If you don’t have those documents, however, then talking to an investor will quickly teach you why they’re required – because if one of your employees leaves, what’s stopping them from starting a competing company with what they learned at your expense?

Related posts:

1. I Won’t Steal Your Idea
2. The Value of an Idea
3. Dragons' Den Makes Business in Court